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What changes are likely to happen in the flexed budget under marginal costing and absorptional costing?
Is it correct that if only variable costs are included in the production cost of a product then it is marginal costing BUT if fixed costs are included in the production cost then it is absorptional costing (or unless it is clearly asked in the question)?
In your lecture, I hope you were using absorptional costing approach due to the fixed cost being included in the production cost. correct?
I do not know which lecture you are referring to.
Fixed production overheads are always part of the total production cost. The difference between marginal and absorption costing is as to whether or not they are included in the valuation of inventories.
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I was referring to your lecture on chapter 11 example 2 where you prepared a flexed budget.
Since the fixed costs are included in the production costs (ie valuation of inventories) so it is absorptional costing BUT if only variable costs are included in the production costs then it is marginal costing.
The only difference between absorption and marginal costing is the fixed costs being added to the production costs.
The effect will be that under absorption costing production costs will be higher because the fixed costs are added to the total costs, therefore, reducing the profits. However, under marginal costing production costs will be lower because the fixed costs are not added; and profits will be increased.
That’s what you mean. correct?
Your final paragraph is not correct.
Whether we are using marginal or absorption costing, the fixed costs always reduce the profit. With absorption costing we include it in the cost of production, whereas with marginal costing we do not include it when calculating the contribution but then subtract it from the contribution to arrive at the profit. That is just a change in layout and is not really relevant for Paper PM.
What will change the profit is the fact that the opening and closing inventories will be valued differently – with marginal costing the inventories are only valued at the marginal/variable cost of production whereas with absorption costing the inventories are valued at full cost of production (including fixed costs).
Again, this is not really relevant for Paper PM because it was examined in detail in Paper MA (was F2). If you are still worried about the difference then do watch the Paper MA lectures on marginal and absorption costing to remind yourself, but it isn’t really anything to worry about for Paper PM.
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Thank you so very much for your explanation. It was really useful 🙂
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